Rising food prices: reasons, implications

The annual agricultural baseline report by the Food and Agricultural Policy Research Institute (FAPRI) projects food prices will rise not only from higher prices paid for farm products but due to rising energy costs.

In mid-March, Pat Westhoff, co-director of the Columbia, Mo.-based FAPRI, spoke with Delta Farm Press about FAPRI’s expectations for crop prices, costs of production, the livestock and dairy sectors, crop insurance and land prices. Westhoff -- recently returned from meetings with legislators in Washington, D.C. -- spoke just prior to his presentation at the March 14Missouri Agricultural Outlook Conference. Among his comments:

What were some of the main concerns, the things you were asked about in D.C. this week?

“One thing that gets a lot of attention around the country – around the world, actually – is food prices. One of the highlights of the (FAPRI) baseline is we’re showing a bit faster food price inflation in 2011 and 2012. In fact, it’s faster than the overall rate of inflation in the economy.”

“That gets people’s attention and they’re worried about what effect that can have on people who spend much of their income on food. And that also leads to questions about the effect on the general rate of inflation in the economy.

“There are different stories for why that’s happening with particular commodities. But there are two major drivers for the big picture: we have higher farm commodity prices for a wide variety of products and we also have higher prices for energy, which increase the cost of getting rural farm products processed and transported to the consumers. Combined, those things have contributed to the 4.2 percent food price inflation rate projected for 2012."

On overall farm income…

“Another area where interest was sparked was in overall farm income. We’re looking at potential record levels of net farm income – at least on a current dollar basis. This year, adjusted for inflation, we might have net farm income of around $99 billion. That would top previous records by a fair amount. Even correcting for inflation that would be almost as much as 2004, the last time when net farm income levels were very high.

“For most grain farmers – corn, soybeans, wheat – it’s been a pretty positive year. There have been high prices for most of those commodities. Even in the case where yields were a bit below normal, they aren’t so far below the norm that farmers don’t have more revenue than they normally would.

“The costs of production are higher than most would prefer. But they aren’t jumping at the rate they were in 2007 and 2008.”

Livestock

On the outlook for livestock…

“On the livestock side of things, it’s a more mixed picture. 2009 was a dreadful year for most livestock producers with continued high cost of production for feed and other inputs.

“At the same time, the prices for their products fell. In part, that was due to the recession. So, 2009 was a very bad year for farm income on most livestock operations.

“2010 was a little bit better for livestock. In part, that’s because a slow-down in supplies of a lot of livestock products. That meant less available for the markets and, as demand picked up, prices improved a bit. We’re seeing more of that trend in 2011.

“The challenge in 2011 is feed – grain and soybean meal prices have shot up again. So, even though livestock producers are getting more for their cows, chickens, pigs and milk, the cost of producing is up rather sharply. Net profits still aren’t at the level livestock farmers can be happy with.”

Acreage projections

On acreage projections…

“There were also questions about FAPRI’s acreage projection. In some respect, they’re pretty similar to USDA’s. We had a similar acreage total across all the crops. We expect there to be a significant increase in total amount of land use for crop production in 2011 – but only to levels we saw as recently as 2008. So, yes, there will be a big increase but not anything we haven’t seen before.

“There is also a lot of attention on the 2011 crop mix. There’s huge uncertainty and, over the next few weeks, the totals will likely shift around. But we’re estimating 91 million acres of corn, 78 million acres of soybeans and 56.9 million acres of wheat. The latter two of those are very close to USDA’s estimates – and that’s a coincidence because we work independently of each other.”

What about cotton?

“For cotton, we’re projecting 12.35 million acres – up about 1.6 million acres from 2010. That’s just a tad below USDA’s number.”

Ethanol/biofuels

On how ethanol figures into the picture…

“We definitely got questions on ethanol.

“One thing different about this baseline: previously, we started with the assumption that tax credits and tariff policies would continue at current levels forever. That is still a possibility and we’re not trying to predict what course those things will take. However, to be consistent with the way the Congressional Budget Office (CBO) does its baselines -- where it is assumed that when a tax credit or provision expires, it really does so – we followed the same convention.

“That approach had some implications. If those tax credits expire at the end of 2011, we end up with a bit less ethanol being produced and consumed in the next marketing year. It isn’t a sharp drop-off because the RFS2 is in place and requires the use of biofuels. That should help keep pretty significant production happening.

“Current oil prices are also a stimulus for the consumption of biofuels. And that’s almost regardless of the policies we might have.

“Anyway, there is enough change from our current situation to mean a bit of a dip in total consumption of ethanol in 2011/2012. Therefore, there will be less corn being used to make it. That should help moderate corn prices a bit.

“So, while the USDA is showing a small increase in 2011/2012 corn prices, we’re actually showing a small drop.”

What about to how ethanol use/price correlates to food prices?

“I don’t want to say that ethanol doesn’t relate to food prices. The fact that we use so much of our corn crop for ethanol production puts upward pressure on the prices of a lot of major commodities, not just corn.

“Having said that, I want to put things in context. Last summer, we had corn around $3.50 per bushel in the marketplace. Since then, we’ve not had any huge surprises on the ethanol front. It’s not like we changed policy to increase ethanol production, or the like. It’s more ‘okay, we have continued growth in ethanol because of things that were already underway and there are strong oil prices.’

“The shock to the market has come from other things – a smaller-than-anticipated 2010 U.S. corn crop, strong demand from China for soybeans, poor wheat crops in Russia and the Ukraine, and other factors.

“So, yeah, higher food prices are partly due to increased production of biofuels. But is that what has caused food prices to increase more than we expected since last summer? No.”

Crop insurance

On crop insurance…

“The mix of support that U.S. farmers receive the government has changed over time. We’re going to be making fewer payments under traditional programs over the next 10 years compared to the last decade.

“Unless there’s a change in policy, they’ll still get direct payments. But the amount received will be modest for the marketing loan and countercyclical payment programs and for ACRE unless we see a dramatically different market situation than is currently anticipated.

“Direct payments account for the vast majority of our traditional farm support. That’s a rather flat number – around $5 billion for year.

“On the other hand, two things will likely result in much higher levels of crop insurance support paid out to farmers over the next decade. First, higher prices for all major crop commodities translate into higher crop insurance premiums. Since premium subsidies from the government are, essentially, a proportional value of the total premiums, that means higher crop prices also mean higher government premium subsidies. Second, we’ve had abnormally low crop insurance losses in recent years. With more typical weather variability, we could have a higher average level of indemnities paid for losses.

“So, over the next decade, our baseline is showing indemnities paid to farmer for losses, minus what they pay for premiums (net indemnities) to be roughly equal in value to direct payments, on average. That’s a very different story than what it’s been in the past and shows how important crop insurance has become.”

Land prices/dairy

Agriculture land price expectations?

“We don’t include those in the published document. There’s just so much uncertainty over them. However, we do work on them.

“Yes, we do expect to see further increases in land values over the next couple of years. One thing folks are concerned about is how much prices have increased, particularly in some markets. If commodity prices stay as high as they are now forever, the run-up in land value makes a lot of sense.

“Others have warned that if there were to be a downturn unexpectedly in commodity prices, some of the higher land prices being paid today may not be justifiable in the future.”

On forecasts for the dairy industry…

“Dairy has been through several huge swings in recent years. There were relatively good conditions for many dairy farmers in 2007 and 2008.

“However, in 2009, several things went wrong at the same time. We had a hangover effect from the good returns in 2007 and 2008. That had led to pretty strong supply numbers.

“At the same time, international demand for U.S. dairy products crashed. In part that was due to the recession and better weather in places like Australia. 2009 was a dreadful year for most U.S. dairy farmers.

“In 2010, we saw prices push upwards a fair amount – although not to strong profitability. We’ve seen further increases in average milk prices in 2011. But we don’t think 2011 will be a year of good profitability for milk producers.”

Anything else?

“I’ll again point out that the current environment of policy uncertainty is a major question mark. That’s not just about the things we’ve touched on. A lot of people are focused on the 2012 farm bill debate – and that’s very important and real. Frankly, though, there may be important choices regarding our farm programs in the next few weeks.

“Debates are going on in the House and Senate about farm programs in budget discussions.”